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Aviva plc releases Q3 2012 Interim Management Statement

Aviva plc today announced its Q3 Interim Management Statement where the operating profit trend is broadly in line with the half year.

More importantly, I am pleased to report that we have taken, and are continuing to take, firm and decisive actions to transform Aviva. The key priorities remain:

To appoint a high quality CEO

To build the company's capital and financial strength, reducing also the risk and volatility of the balance sheet and income statement

To narrow focus on attractive core businesses and dispose intelligently of non-core segments

To improve earnings performance and return on equity with the aim of broadly replacing, by 2014, the earnings lost as a result of disposals with new earnings streams

Reporting on each of these in turn, the CEO search process is now well advanced and in line with the original timetable set out by the Board. Shortlisted candidates are in the process of being interviewed by non-executive directors, and on completion, we will then seek FSA approval for the Board's preferred candidate.

I am also pleased that we are getting good traction on building our financial strength. Economic capital surplus* as at the end of October 2012 was around £5.3 billion, up by £0.8 billion from the half year and by £1.7 billion from the beginning of the year – in ratio terms we are currently around 146% versus our target range of 160-175%. IGD capital surplus at the end of October was £3.7 billion, up £0.6 billion from the half year and with a ratio of 167%. In the quarter we also sold down part of our Italian sovereign bond holdings.

In the quarter we reduced our Delta Lloyd holdings and announced the sale of our business in Sri Lanka. While we are not yet in a position to make firm announcements on further non-core disposals, the progress is in line with planned timelines.

We can now confirm that we are in discussions with external parties with respect to our US life and annuities business and these are being actively pursued. While not agreed, any such sale would come at a substantial discount to IFRS book value, but would generate significant economic capital surplus. We believe any such sale would be in the best interests of the Group and we are hopeful of a satisfactory resolution reasonably soon.

Beyond this, there are eight smaller disposals which are now more likely to be in 2013, and we expect all to be done without a significant impact on the Group's IFRS book value.

The transformation and earnings enhancement process continues apace. A key initiative is the turnaround of our 27 "amber" business cells. In the quarter we assigned our most talented high-potential executives to each cell and they produced a plan for each. The analysis tended to show that within the cells we had a mix of performing as well as uneconomic or poorly performing sub-segments or products. The required actions ranged from revenue-enhancement, cost or loss reduction, capital withdrawal, or leveraging technology or the online space. We are now in the process of refining and implementing these plans and building the results into our 2013 and 2014 plans, and will be able to provide a more comprehensive update at the 2012 full-year results.

Unsurprisingly, getting traction on the change initiatives at Aviva has taken time.

On the one hand we are blessed with a terrific brand and really professional front-line staff who have the customer's interest fully at heart. For example, visiting the regional UK and international centres reveals an incredibly dynamic environment and a strong marketing ethic. The "systems thinking" initiatives are now well embedded in the culture of the UK business.

On the other hand, culturally the organisation has been more used to collective decision making and has moved more slowly as a result. This initially inhibited progress on some of the programmes possibly exacerbated by an unwieldy centre and support infrastructure, with more bureaucracy than desirable. Although it will take time to change this, the pace of change is accelerating and we are beginning to make real progress.

There are nine specific transformation programmes and I'll cover each in turn:

Backing Winners – This aims to develop new revenue opportunities in the developed markets, and involves a team of external professionals as well as the transformation team. In addition there is a separate initiative to invest new capital and expense resources in a few high growth and return opportunities. These are relatively new initiatives, and we will have further clarity on their potential by year end.

Cost and Capital Efficiency - As previously announced, we are seeking at least £400 million of cost savings as well as the reallocation of capital from suboptimal segments. We have already removed four levels of middle management in the UK and the programme is being extended internationally. We have also removed the regional layer of our business. In addition the review of head office, support activities and non-staff costs is well advanced. By the end of the year we will have locked-in a run rate cost reduction of £250 million and have specific 2012 and 2013 plans in place on the balance. We are also in the process of producing a more efficient 2013 capital plan.

Back Books – We are aiming strategically and tactically to reduce the drag on economic return and concentration risk from capital-hungry, sub-optimal, or non-current legacy portfolios. Favourable economic outcomes in this area are inherently difficult, but several modest tangible opportunities have been identified, and these are being worked through.

Life Excellence – It is critical that we leverage best-in-group capability across all life segments. Specific initiatives include launching existing products into new markets, product re-pricing, improved underwriting standards, reallocation of capital, improved loss mitigation and cost reduction. The organisational team is now in place and key positions assigned.

GI Excellence – Given our largest general insurance businesses are in the UK and Canada, it is important that we implement best-in-class techniques across both as well as across the smaller GI segments internationally. Specific initiatives include fully deploying existing risk-based pricing systems, improved claims efficiency and the deployment of sophisticated fraud reduction systems. This involves additional responsibility for existing professionals from the UK and Canada.

Assets/Aviva Investors – We have initiated a programme to review the overall asset portfolio of the group and the appropriate mix for a low interest rate environment. As part of this review, we will be undertaking additional work with Aviva Investors to develop a more compelling external proposition. While Aviva Investors continues to serve the group well, it has fallen short of our aspirations to expand the business externally.

Product Tails – As with most firms we have a natural 80/20 to our business with a significant tail of products and segments that make little contribution to our success and in many cases erode value. This programme aims to eliminate these tails. This is a relatively recent initiative and while an initial analysis has been conducted, it requires further analysis and solutions.

IT and Operations – This essentially involves a complete reappraisal of our technology strategy and architecture, and also reviews our current IT spend level of over £800 million per annum. The review has now been completed, has been formally approved, and will be implemented in three phases. As a result we will eliminate over 800 applications from our current legacy estate, adopt a more modern digital architecture, improve service standards and reliability and reduce IT revenue and capital expense costs. In addition there is a separate programme to optimise spend on the various operational change initiatives across the Group which will result in more effective implementation, the elimination of waste and reduced costs.

Performance Ethic – Aviva requires a more effective performance culture. As such we are seeking significant change in the areas of culture and values, performance targeting and measurement, communication, and remuneration practices across the Group. This work is well advanced. Additionally, the 2012 engagement and values surveys have been completed by staff. All senior management have been categorised in a nine-box performance and potential matrix, and force-ranked on a 20/70/10 basis, and systems have been designed to differentiate remuneration according to ranking, subject to further Remuneration Committee discussion and approval.

Trading conditions though remain difficult and results have been mixed across the Group. We nevertheless have strong positions in the UK, Canada, France and Singapore and our performance has been good in these markets. In our life business in Spain and Italy markets are tough, driven by the external economic environment, with new business volumes considerably reduced. In Ireland, while a number of good actions are underway to improve performance, the results are not yet acceptable.

Although conditions will remain challenging, the strategic and transformational programmes should enable us to improve our financial performance and value significantly, making Aviva a better business for our customers, our people, our partners and a better investment for our shareholders.

John McFarlane, Chairman

* The economic capital surplus represents an estimated position. The capital requirement is based on Aviva's own internal assessment and capital management policies. The term 'economic capital' does not imply capital as required by regulators or other third parties. Pension scheme risk is allowed for through five years of stressed contributions.

* The economic capital surplus represents an estimated position. The capital requirement is based on Aviva's own internal assessment and capital management policies. The term 'economic capital' does not imply capital as required by regulators or other third parties. Pension scheme risk is allowed for through five years of stressed contributions.

Overview

We are on track with our plan to make Aviva financially stronger, more focused and higher-performing. Operating profit trends in the third quarter are in line with the first half.

Life insurance

In life insurance our priority is the disciplined allocation of capital, with an emphasis on less capital-intensive products. The life new business IRR was 13.8% and total long term savings sales were £22.2 billion, down 6%.

In the United Kingdom total life and pension sales were flat at £8.0 billion. Excluding bulk purchase annuities, sales were up 3% and we have grown protection sales significantly, up by 23%, individual annuities were up by 11% and group personal pension sales were up by 15%. Overall new business IRR was up at 16% (3Q11: 15%) as we made further progress in improving returns from our individual annuity, protection and workplace savings propositions. We continue to allocate capital to those products achieving the best returns, leading to our decision to withdraw from the large scale bulk purchase annuity market earlier this year.

Trading conditions remain subdued across continental Europe. In France sales are lower mainly because of continued unfavourable market conditions. In Spain, although the economic environment has impacted sales, we have grown the proportion of less capital intensive protection sales modestly, and the profitability of this product area remains strong. In Italy we have taken action to reduce the risks in this business: we have increased our share of unit-linked business and reduced our with-profit sales by 38%, to manage down our exposure to this sector. In Poland a combination of regulatory changes, adverse foreign exchange movements and the impact of the economic environment led to a decline in sales. Even so, our profitability in this market remains very good.

In the United States life new business profitability was level. In response to the low interest rate environment we have taken pricing action, re-pricing equity indexed annuities three times this year. Annuity sales declined by 5% in 3Q12 compared with 2Q12 and we expect a further reduction in sales as a result of the actions we have taken.

In our Higher Growth markets profitability was in line with the half year and life and pension sales increased against prior year with a strong performance in Singapore partially offsetting a decline in sales in China and India.

General insurance

Our general insurance business delivered a combined operating ratio of 97% in line with prior year (excluding RAC). General insurance and health net written premiums were £6.7 billion, down 3% on prior year, but flat when RAC is excluded.

In the UK we delivered a combined operating ratio in line with 2011 (excluding RAC) of 97% as we continue our focus on disciplined underwriting, claims and cost management. We have taken action to reduce our exposure in a number of commercial lines including blue-water hull marine, agriculture and scheme business.

Net written premiums in the UK were level at £3.1 billion reflecting our discipline to maintain profitability over volume in challenging market conditions, particularly in SME commercial. Whilst we have contracted in some very competitive areas such as SME commercial, we have continued to grow profitably in UK personal motor with net written premiums 8% higher. Over 250,000 net new customers chose to take out their personal motor policy with Aviva since the start of 2012. This growth has been achieved across all channels and has been driven by new initiatives such as Quotemehappy and MultiCar.

In France, general insurance performed well, with a combined operating ratio of 95%, an improvement against the same period last year.

In Canada, our second largest general insurance market, our combined operating ratio was 93%. Sales were 5% higher at £1.6 billion primarily in our personal lines business due to improvements in retention, rate increases and underlying growth in our customer base. We have taken pricing and underwriting actions on some historically unprofitable commercial lines, such as hospitality and real estate, to improve returns.

Asset managment

Aviva Investors secured net funded external sales (excluding liquidity funds) of £2.0 billion in the first nine months (3Q11: £2.8 billion2 ) including redemptions relating to the refocusing of our distribution offices in Europe. New mandates were won from institutional clients and global financial institutions in the UK, Middle East and the Americas over the quarter. Assets under Management were £274 billion (3Q11: £263 billion).

Transformation agenda

In July we set out our strategic plan to transform the company with three priorities: build financial strength, to narrow focus and improve financial performance.

Build financial strength

We remain focused on building Aviva’s financial strength and our estimated economic capital surplus has increased to £5.3 billion as of 31 October (ratio: 146%). The IGD solvency surplus has improved to £3.7 billion at 31 October with a coverage ratio of c.167% (HY12: £3.1 billion and c.150%). Since FY11, IGD solvency surplus has increased by £1.5 billion.

Our capital position has improved through a combination of favourable market movements and actions we have taken to manage risks across the Group. These include disposals and measures we have taken in the pension scheme to reduce equity exposure, and increase interest rate and inflation hedges.

We have also taken a number of steps to reduce the volatility of our capital position including the sell down of our holding in Delta Lloyd in July, and lowering our exposure to Italian sovereign debt, with a gross sell down of nearly €3.0 billion this year from our shareholder and participating funds3. After taking into account market movements and new business, the value of our net direct shareholder and participating fund holdings in Italian sovereign debt is now £5.2 billion4 (FY11: £6.4 billion) of which our net direct shareholder exposure is £0.5 billion. We also took advantage of market conditions towards the end of the quarter to rebalance our equity hedges so that our protection against equity falls now starts sooner and lasts longer.

In the first nine months of 2012 Aviva generated £1.3 billion of operating capital. This has improved by over £100 million compared with last year and is over £200 million higher after adjusting for the disposal of Delta Lloyd and the RAC. The majority of the improvement has come from a combination of continued lower capital usage, better capital allocation across most of our life businesses and higher in-force capital generation.

Our IFRS NAV per share is 397p on 30 September 2012 compared with 395p on 30 June 2012, with a reduction in the pension surplus of 12 pence per share offsetting profits and positive market movements.

Narrow focus

We have made progress exiting or taking action in the 16 business segments that we identified as non-core. We reduced our shareholding in Delta Lloyd to below 20% in July and agreed the sale of our business in Sri Lanka in September. In addition we are in discussion with external parties with respect to the sale of our US business, which, if delivered would generate a significant economic capital surplus but could only be executed at a substantial discount to IFRS book value. In eight of the other non-core segments we have appointed investment banks to work on exit strategies.

We have decided to stop writing new business in large bulk purchase annuities and in the remaining four segments we are taking further radical action.

Improve financial performance

We are improving Aviva’s financial performance through a reduction in the Group’s expenses, more disciplined capital allocation, lowering losses and growing revenues over time.

By the end of 2012 we will have delivered a £250 million run rate cost reduction and we are on track to meet our £400 million cost reduction target. We have achieved our cost savings through a number of actions including reducing the number of management levels in the UK business between the CEO and operational staff from nine to five, removing the regional layer of our business and integrating our UK and Ireland businesses.

We have made further improvements to the allocation of capital across the Group which has supported our operating capital generation levels. In UK individual annuities, for example, we have increased prices to improve the required capital return. We have improved the European bancassurance mix, developing products with lower guarantees, which are less capital intensive and provide higher returns. In Italy we have reduced product guarantees and have launched three new life products all with improved economic returns and reduced capital consumption. In France we have introduced new, less capital intensive, unit-linked products through Credit du Nord and AFER.

We have also taken further action to terminate or improve historically unprofitable products and distribution agreements. In France, for example, we are exiting a number of car partnerships in our direct general insurance business. In the UK we have refocused our life insurance distribution away from less-profitable building society partnerships.

We have selectively increased rates in our general insurance business, and have also taken rating actions on a number of unprofitable lines such as the leisure segment in Ireland and exited others, such as two health products in Singapore.

We are seeking opportunities for new revenue growth particularly in the developed markets. For example we are examining how we can create additional revenue streams from our existing strengths in bancassurance, protection and general insurance personal and corporate speciality lines.

Outlook

Although trading conditions in many of our markets are likely to remain subdued, we expect performance trends to be broadly in line with half year 2012.

We are focused on transforming Aviva into a financially stronger and more focused company which is well positioned in difficult economic times to serve our customers effectively. We remain confident of success.

Patrick Regan Chief financial officer

1 The economic capital surplus represents an estimated position. The capital requirement is based on Aviva’s own internal assessment and capital management policies. The term ‘economic capital’ does not imply capital as required by regulators or other third parties. Pension scheme risk is allowed for through five years of stressed contributions.

3 Gross of purchases, maturities, and as part of the sell-down programme.

4 Net of minority interests.

Notes to editors

All comparators are for the nine months to 30 September 2011 unless otherwise stated.

Income and expenses of foreign entities are translated at average exchange rates while their assets and liabilities are translated at the closing rates on 30 September 2012. The average rates employed in this announcement are 1 euro = £0.81 (9 months to 30 September 2011: 1 euro = £0.87) and US$1 = £0.63 (9 months to 30 September 2011: US$1 = £0.62).

Growth rates in the press release have been provided in sterling terms unless stated otherwise. The supplements following present this information on both a sterling and local currency basis.

Cautionary statements:

This should be read in conjunction with the documents filed by Aviva plc (the “Company” or “Aviva”) with the United States Securities and Exchange Commission (“SEC”). This announcement contains, and we may make verbal statements containing, “forward-looking statements” with respect to certain of Aviva’s plans and current goals and expectations relating to future financial condition, performance, results, strategic initiatives and objectives. Statements containing the words “believes”, “intends”, “expects”, “plans”, “will,” “seeks”, “aims”, “may”, “could”, “outlook”, “estimates” and “anticipates”, and words of similar meaning, are forward-looking. By their nature, all forward-looking statements involve risk and uncertainty. Accordingly, there are or will be important factors that could cause actual results to differ materially from those indicated in these statements. Aviva believes factors that could cause actual results to differ materially from those indicated in forward-looking statements in the presentation include, but are not limited to: the impact of ongoing difficult conditions in the global financial markets and the economy generally; the impact of various local political, regulatory and economic conditions; market developments and government actions regarding the sovereign debt crisis in Europe; the effect of credit spread volatility on the net unrealised value of the investment portfolio; the effect of losses due to defaults by counterparties, including potential sovereign debt defaults or restructurings, on the value of our investments; changes in interest rates that may cause policyholders to surrender their contracts, reduce the value of our portfolio and impact our asset and liability matching; the impact of changes in equity or property prices on our investment portfolio; fluctuations in currency exchange rates; the effect of market fluctuations on the value of options and guarantees embedded in some of our life insurance products and the value of the assets backing their reserves; the amount of allowances and impairments taken on our investments; the effect of adverse capital and credit market conditions on our ability to meet assumptions in pricing and reserving for insurance business (particularly with regard to mortality and morbidity trends, lapse rates and policy renewal rates), longevity and endowments; the impact of catastrophic events on our business activities and results of operations; the inability of reinsurers to meet obligations or unavailability of reinsurance coverage; increased competition in the UK and in other countries where we have significant operations; the effect of the European Union’s “Solvency II” rules on our regulatory capital requirements; the impact of actual experience differing from estimates used in valuing and amortising deferred acquisition costs (“DAC”) and acquired value of in-force business (“AVIF”); the impact of recognising an impairment of our goodwill or intangibles with indefinite lives; changes in valuation methodologies, estimates and assumptions used in the valuation of investment securities; the effect of legal proceedings and regulatory investigations; the impact of operational risks, including inadequate or failed internal and external processes, systems and human error or from external events; risks associated with arrangements with third parties, including joint ventures; funding risks associated with our participation in defined benefit staff pension schemes; the failure to attract or retain the necessary key personnel; the effect of systems errors or regulatory changes on the calculation of unit prices or deduction of charges for our unit-linked products that may require retrospective compensation to our customers; the effect of a decline in any of our ratings by rating agencies on our standing among customers, broker-dealers, agents, wholesalers and other distributors of our products and services; changes to our brand and reputation; changes in government regulations or tax laws in jurisdictions where we conduct business; the inability to protect our intellectual property; the effect of undisclosed liabilities, integration issues and other risks associated with our acquisitions; and the timing impact and other uncertainties relating to acquisitions and disposals and relating to other future acquisitions, combinations or disposals within relevant industries. For a more detailed description of these risks, uncertainties and other factors, please see Item 3d, “Risk Factors”, and Item 5, “Operating and Financial Review and Prospects” in Aviva’s Annual Report Form 20-F as filed with the SEC on 21 March 2012. Aviva undertakes no obligation to update the forward looking statements in this announcement or any other forward-looking statements we may make. Forward-looking statements in this presentation are current only as of the date on which such statements are made.